529 Plans: Managing Your College Savings Plans for Kids
With the rising cost of college in the United States, saving for college has possibly become the single largest cost of raising a child. The government has tried to help, by creating “qualified tuition plans,” commonly known as 529 plans. You may not be familiar with them, but there are currently two kinds of qualified tuition plans: prepaid tuition plans and college savings plans.
Prepaid tuition plans allow parents to purchase college and university credits for future use at today’s price. This is a massive benefit given the exponential rise in tuition prices, especially if your children are young and will not attend college for a long time.
Another option is to invest in a 529 plan. These plans allow you to save tax-free up to $14,000 per beneficiary per year, which means that your contributions can grow tax-deferred until your child uses them to pay for college tuition, fees, or other qualified expenses. You can also use a 529 plan to invest in stocks and bonds, which could offer your child a better return than traditional savings accounts.
The two major 529 plans are college savings accounts (CSA) and Coverdell Education Savings Accounts (ESA). A CSA lets you save money directly into the account, while an ESA allows you to contribute money to the account on behalf of your child. Both options offer tax advantages, including the ability to defer taxes on contributions until the funds are withdrawn.
The most significant difference between these plans for contributing money yearly. With a 529 plan, you can contribute up to $14,000 per individual per year (or $30,000 per family). With an ESA, you can only contribute up to $2,500 per year (or $5,000 per family).
Education IRA accounts are similar to 529s in that they allow you to save money tax-free for your child’s college education. The main difference is that you have more control over how much money you put into an Education IRA account – you can usually contribute up to $5,500 per year (or $11,000 if your income is below certain thresholds). An Education IRA might be a better option if your child doesn’t qualify for a traditional 529 plan due to their income level or other factors.
Parents Investing in College Savings Plans for Kids
College savings plans for kids allow parents to open an investment account and invest for future college and university costs, including room and board (prepaid tuition plans do not cover room and board). College savings plans typically invest in mutual funds and ETFs, subject to market risk. For instance, it is possible the college savings plan does not increase in value or even decrease in value. However, the US stock and bond markets have consistently risen over the long term.
Some parents open college savings plans for kids “directly” through the plan sponsor, and other parents invest through a financial or investment advisor. If you invest through a financial advisor, you must conduct due diligence on the advisor and make sure they are reputable. We asked a securities fraud attorney for tips on selecting a financial advisor, and these were his tips:
1. Use the Financial Industry Regulatory Authority’s (FINRA) free BrokerCheck tool to see the financial advisor’s regulatory history;
2. Using BrokerCheck, make sure the advisor is currently licensed with a large firm;
3. Make sure the advisor does not have any customer complaints on their BrokerCheck record;
4. Using BrokerCheck, make sure the advisor has not been fined or suspended by the regulators;
5. Make sure the advisor is acting in a fiduciary capacity and acting in your best interest.
After you have selected a financial advisor, make sure to ask how the financial advisor is being compensated. And any fees paid to the advisor reduce the returns on the account, so consider investing directly – without a financial advisor.
When selecting investments, keep in mind that as your child reaches college age, the investments should become more conservative. If a market downturn hits right before college, there will not be time for the account to rebound if the principal is withdrawn to pay for school. More conservative investments are less likely to be subject to market downturns.